How Currency Trading Works – The Key Considerations

While the financial marketplace is packed full of diverse securities and asset classes, forex and stocks are arguably the most popular among investors.

Currency trading

While each of these assets are similar in some respects, they also have numerous differences that afford them distinct benefits and disadvantages that makes them suitable in different market conditions.

In this post, we’ll compare the two markets closely, while asking how currency trading works and offering some advice on how to avoid the recurring losses that plague up to 70% of FX traders.

Forex vs Stocks – The Key Considerations

In terms of similarities, you can invest in both stocks and forex through CFDs (contracts for difference), while spread betting is another investment vehicle that can be used in this respect.

When it comes to differences, there are three main considerations to keep in mind. These include:

1. Volatility

The forex market is inherently more volatile than stocks, which means that its sees considerably more (and often sharper) price movements in relatively short periods of time. While this may be off-putting to investors with a decidedly risk-averse outlook, the speculative nature of forex trading enables you to leverage volatile price fluctuations and generate incremental profits in the process.

 2. Liquidity

The seven major currency pairs account for 68% of all daily trades in the forex market, while these assets are all highly liquid and benefitting from constant demand in a 24-hour space. This makes it much easier to buy and sell currencies in relation to stocks regardless of the wider economic climate, creating a further advantage for investors with a short-term outlook and penchant for strategies such as scalping and day trading.

3. Trade Pairing

As we’ve already touched on, currencies are always traded in pairs, which means that you’ll have to consider the relationship between respective nations in addition to their wider economic health. Remember, currency prices are impacted directly by the macroeconomic climate, relevant geopolitical relations and trade inflows between two paired nations, and you’ll need to appraise all of these factors as part of your wider strategy.

What Moves the Currency Markets?

This leads us neatly on the topic of what moves currency markets, in addition to fundamental factors such as supply and demand.

The main macroeconomic influencers are inflation and interest rates. At present, inflation is continuing to spiral in developed economies such as the UK, with this eroding the purchasing power of relevant currencies and causing their value to diminish.

Conversely, base interest rates are being hiked to counter the effects of inflation, with this increasing demand for specific currencies from overseas and seeing currency values rise in the process.

Government and monetary policies may also impact on the demand for currencies and its real-time value (especially in relation to other currencies), while geopolitical relations and events such as trade wars may also hit the relevant exchange rate directly.

The Last Word – Our Advice to Traders

Forex trading is undoubtedly higher risk and more volatile than stock trading, with this borne out by the fact that up to 70% of FX traders lose money regularly.

However, forex trading can also be highly profitable, especially when you access leveraged positions through margin accounts that are considerable larger than your initial cash deposit.

The key is to research the market thoroughly and make use of broker demo accounts to gain risk free practical experience, before starting small when trading for real money and using leverage conservatively.

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